Broker Recommendations and Their ReliabilityBroker Recommendations and Their Reliability Wall Street analyst recommendations are often used by investors to guide investment decisions. These recommendations, typically made by analysts employed by brokerage firms, can range from “Strong Buy” to “Strong Sell.” However, it is important to question the reliability of these recommendations before relying on them. Limitations of Broker Recommendations Several studies have shown that broker recommendations often fail to predict stock price appreciation. This is primarily due to the self-interest of brokerage firms in the stocks they cover. Analysts tend to assign higher ratings to stocks to maintain positive relationships with the companies issuing them. Additionally, brokerages have a financial incentive to recommend stocks they underwrite or have a stake in. Using Broker Recommendations Effectively Despite their limitations, broker recommendations can still be a useful tool for investors. They can provide insights into how professional analysts view a particular stock and can be used as one data point in making investment decisions. However, investors should not rely solely on these recommendations and should conduct their own due diligence before investing. Comparing Broker Recommendations to Zacks Rank Zacks Rank is a proprietary stock rating tool developed by Zacks Investment Research. It classifies stocks into five groups based on earnings estimate revisions. Zacks Rank has been shown to have a strong correlation with near-term stock price movements. Unlike broker recommendations, Zacks Rank is not based on subjective opinions but on quantitative data. It harnesses the power of earnings estimate revisions, which are a key indicator of a company’s financial health and future prospects. Caution in Confusing Broker Recommendations and Zacks Rank Although both broker recommendations and Zacks Rank are presented on a scale of 1 to 5, they are distinct metrics. Broker recommendations reflect the opinions of analysts, while Zacks Rank is based on earnings estimate revisions. Zacks Rank has proven to be a more reliable indicator of future stock price performance than broker recommendations. Case Study: Micron (MU) The article discusses the average brokerage recommendation (ABR) for Micron, which is currently 1.15 (between Strong Buy and Buy). However, the Zacks Rank for Micron is #2 (Buy), indicating a more positive outlook. This suggests that while broker recommendations may provide some guidance, it is important to consider Zacks Rank and other factors before making investment decisions.
Wall Street analyst recommendations are often used by investors to decide whether to buy, sell, or hold a stock. Media reports of these broker-hired (or sell-side) analysts changing their ratings often have an impact on a stock’s price. But do they really matter?
Let’s see what these Wall Street powerhouses have to say about Micron (MU Quick quoteI – Free Report) before we discuss the reliability of broker recommendations and how you can use them to your advantage.
Micron currently has an average brokerage recommendation (ABR) of 1.15, on a scale of 1 to 5 (Strong Buy to Strong Sell), calculated based on actual recommendations (Buy, Hold, Sell, etc.) from 27 brokerage firms. An ABR of 1.15 is roughly between Strong Buy and Buy.
Of the 27 recommendations that derive the current ABR, 24 are Strong Buy and two are Buy. Strong Buy and Buy account for 88.9% and 7.4% of all recommendations, respectively.
Trends in broker recommendations for MU
View the target price and share forecast for Micron here >>>
The ABR recommends buying Micron, but making an investment decision based on this information alone may not be a good idea. According to several studies, broker recommendations have little to no success in guiding investors in choosing stocks with the most potential for price appreciation.
Wondering why? Because of brokerage firms’ self-interest in a stock they cover, their analysts tend to rate it with a strong positive bias. According to our research, brokerage firms assign five “Strong Buy” recommendations for every “Strong Sell” recommendation.
In other words, their interests are not always aligned with those of retail investors, and rarely indicate where a stock’s price might actually go. Therefore, the best use of this information might be to validate your own research or an indicator that has proven very successful in predicting a stock’s price movement.
With an impressive outside-audited track record, our proprietary stock rating tool, the Zacks Rank, which classifies stocks into five groups ranging from Zacks Rank #1 (Strong Buy) to Zacks Rank #5 (Strong Sell), is a reliable indicator of a stock’s near-term price movement. Thus, validating the Zacks Rank with ABR can go a long way in making a profitable investment decision.
ABR should not be confused with Zacks Rank
Although Zacks Rank and ABR both appear on a scale of 1 to 5, they are two completely different metrics.
Broker recommendations are the sole basis for calculating the ABR, which is typically displayed in decimal form (such as 1.28). The Zacks Rank, on the other hand, is a quantitative model designed to harness the power of earnings estimate revisions. It is displayed in whole numbers — 1 through 5.
Analysts employed by brokerage firms are and remain overly optimistic in their recommendations. Because the ratings these analysts issue are more favorable than their research would support due to the self-interest of their employers, they mislead investors far more often than they advise.
On the other hand, earnings estimate revisions are the core of the Zacks Rank. And empirical research shows a strong correlation between trends in earnings estimate revisions and near-term stock price movements.
Furthermore, the different grades of the Zacks Rank are applied proportionally to all stocks for which brokerage analysts provide current-year earnings estimates. In other words, this tool maintains a balance among the five ranks it assigns at all times.
Another key difference between the ABR and the Zacks Rank is freshness. The ABR is not necessarily up-to-date when you look at it. But since brokerage analysts keep revising their earnings estimates to account for a company’s changing business trends, and their actions are reflected in the Zacks Rank soon enough, it is always timely to indicate future price movements.
Is MU a good investment?
In terms of earnings estimate revisions for Micron, the Zacks Consensus Estimate for the current year has risen 100.6% over the past month to $1.16.
The growing optimism among analysts about the company’s earnings prospects, as evidenced by the broad consensus among them to upgrade earnings per share estimates, could be a legitimate reason for a strong stock price increase in the near term.
The magnitude of the recent consensus estimate change, along with three other factors related to earnings estimates, has resulted in a Zacks Rank #2 (Buy) for Micron. You can see the complete list of today’s Zacks Rank #1 (Strong Buy) stocks here >>>>
Therefore, the buy-equivalent ABR for Micron can serve as a useful guide for investors.
